12/03/2008 @ 6:00AM

Merck Faces Another Tough Year

Under chief
Richard
Clark
Richard Clark
, an unassuming company lifer, Merck
staged a seemingly amazing turnabout from the dark days of 2004, when it had to stop selling the painkiller Vioxx after its own studies linked the drug to an increased risk of heart attack and plaintiffs’ lawyers swarmed the company.

But though Merck’s share price surged to pre-Vioxx highs early this year as Clark settled the litigation for just $5 billion and got eight drugs approved in two years, the stock now sits at a Vioxx-era $26, down 50% in 11 months. Don’t just blame the financial crisis–that’s the worst performance of any big pharmaceutical company this year.

An earnings guidance call Thursday and a meeting with analysts at company headquarters Dec. 9 will give Clark a chance to soothe Wall Street. The problem will be making analysts feel they haven’t heard it all before.

One of Clark’s first moves, in 2005, was to cut 7,000 jobs; Merck just announced it would cut 7,200 more. He’s promised “fundamental changes” to the company’s business model. But really getting Wall Street’s attention will require unveiling a truly impressive research surprise or announcing a big acquisition.

“I want to like Merck, but they keep not succeeding,” says Les Funtleyder, health care strategist at Miller Tabak. “They have some decent people and a very good research structure, but we have to go with the facts and the fact is success has been elusive.”

Merck’s total sales will drop 1% to $23.9 billion next year, according to analyst John Boris at Citigroup. He’s bullish because the stock is so cheap, but in a recent report, he laid out the challenge Merck will face in 2009: Sales of top-seller Singulair, for allergies and asthma, will barely grow because of safety worries, and generics maker
Teva Pharmaceuticals
could launch a copycat ahead of schedule. The company’s vaccines division has stumbled due to manufacturing and marketing issues that executives need to fix–fast.

Worst of all has been the lost sales from the cholesterol pills Zetia and Vytorin, sold in a joint venture with
Schering-Plough
. U.S. doctors are prescribing them 40% less since word emerged a year ago about a study that failed to prove Zetia halted atherosclerosis. (See “The Vytorin Question.”)

That study was conducted mostly by Schering, but a larger clinical trial with more Merck involvement was released this summer and also showed what critics say was a disappointingly small effect on heart attacks for Vytorin, which is a combo pill of Zetia and a generic. People taking Vytorin in this study, called SEAS, were more likely to die of cancer; some researchers argue the result was probably, but not certainly, a fluke.

“While it’s easy to lose focus during times of uncertainty, we must not lose sight of our overall goal–regaining leadership in the pharmaceutical industry,” Clark wrote in an e-mail to his employees, obtained by Forbes. He later added: “Our dynamic industry environment calls for us to fundamentally change our business model with even more urgency than ever.”

When SEAS hit, Merck yanked its financial guidance for the year. Some fund managers say their colleagues sold out of anger, suspecting Merck was using the SEAS result to cover for the worse-than-expected performance of Singulair and of Gardasil, a vaccine for the human papilloma virus that causes cervical cancer. Clark did acknowledge those issues in his e-mail to employees and on a conference call with analysts.

But suddenly Merck’s leadership in the industry was something to be “regained,” and the business model needed yet more fundamental change. But things got worse as the Gardasil vaccine, which generates $1.5 billion annually, hit speed bumps. Researchers have raised doubts about the cost-effectiveness of the vaccine, and there have been scattered reports of side effects, but there are bigger problems in the area of distribution.

Pediatricians are used to giving shots, and girls who see them have been getting vaccinated. But Gardasil is approved for women as old as 26, and primary care doctors and obstetrician-gynecologists have less financial incentive to vaccinate. Women ages 18 to 26 have just not been getting Gardasil, and Merck has introduced pilot programs to help docs pay for stocking the vaccine. The FDA also returned, with questions, an application to sell the vaccine for women as old as 46, delaying its approval.

Worse, Merck has had difficulty manufacturing some of its vaccines, including Zostavax, for shingles. The products are literally on backorder. “You’ve got a product that’s in demand,” says Funtleyder, “and you can’t supply the demand.” Merck says the production problems will be solved and backorders filled by early 2009.

Merck says its manufacturing problems are not the result of its staff reduction, and that it won’t allow job cuts to hurt the quality of its products. The 7,000 jobs cut in 2005 included vacant positions, and the company didn’t stop hiring; total head count is down by about 4,000 to around 57,000. Still, the current round of 7,200 cuts, including a program called “spans and layers” that will result in one-quarter of executives (including many vice-presidents) leaving the company, could certainly lead to a brain drain.

What about research? No big Merck drugs are expected to hit the market in 2009. For a moment, it appeared Merck’s focus on basic science was helping it get the jump on competitors. Its diabetes drug Januvia made it to market while competitors from
Novartis
and elsewhere failed because of side effects. Gardasil has had the U.S. market to itself because the similar Cervarix, from
GlaxoSmithKline
, has been delayed.

But now Merck’s pipeline has been culled by delays and failures. Merck had high hopes for Cordaptive, a new drug to block the side effects of the proven heart medicine niacin. The FDA dashed them, wanting more safety data and, according to people who have been briefed on the agency’s response to Merck, more data comparing the new drug with aspirin, which some doctors prescribe with niacin today.

Merck Vice President Richard Pasternak says the aspirin issue was minor and that Merck is now collecting more data. Obesity drug Taranabant was killed because it caused depression and psychiatric side effects; similar medicines from
Pfizer
and
Sanofi-Aventis
were also nixed.

Merck does have a few gems. Its HIV drug Isentress is the only one of its kind, and it holds great promise. The experimental rolofylline, for acute heart failure, could be a blockbuster if it works. Merck’s basic science research in cancer is fascinating and could lead to important drugs if the company pays enough for clinical trials.

But many are sick of waiting for Merck to deliver. Deutsche Bank analyst Barbara Ryan thinks the company should just bite the bullet and make a big acquisition. She suggests
Gilead Sciences
, a maker of HIV drugs and perhaps biotech’s biggest star.

On an October conference call with analysts, Clark was unbowed. I have full confidence in the fundamentals of Merck’s business, our strong balance sheet and cash flow, our product portfolio, our deep strength in research and development, our great people and an excellent management team across the globe, he said.